Taxation and Trusts
Trusts are an effective and legitimate means of streaming income earned by the trust to beneficiaries of the trust. Such beneficiaries may include: natural persons, companies, other trusts and charities.
Golden rule – ensure income of the trust estate is allocated before the end of each financial year
At the end of each financial year the trustee will make a resolution distributing (or appointing) income of the trust to beneficiaries in various proportions or amounts. If the trustee fails to make a resolution and there is no default provision in the trust deed (see below) the trustee will be assessed on the income (or so much as has not been appointed) at the highest marginal tax rate plus the medicare levy of 2% ( ie 45% for 2024-25 year).
As such it is important that 100% of the trust income in any one year is distributed or appointed to beneficiaries of the trust. Just relying on the default provision in the trust deed may not be appropriate.
Default (income) provision of your trust deed
In almost all trust deeds there is a provision (default income resolution) that applies if no resolution is made by the trustee appointing income of the trust for a particular year. The purpose and effect of a default provision is to appoint income to named beneficiaries of the trust in the absence of an express resolution made by the trustee before the year end.
Such default income provisions are part of the stock in trade provisions of a trust deed and date back to the creation of the trust or earlier if the trust deed is an off-the-shelf trust deed. As such the default income provision may no longer be appropriate in the context of the trust (eg the default beneficiaries named in the default provision are no longer living and the provision is narrowly defined to include named persons and not their successors).
A variation to the default income provision of a trust deed would not generally cause any adverse CGT or stamp duty liability. However, the terms of the trust deed would need to be considered in total before making any amendments to the trust deed.
Professional advice should be sought before amending your trust deed.
What is a Bucket Company and how are they used ?
A bucket company is a company that by reason of being a beneficiary of a trust is the recipient of trust distributions made by the trustee of the trust. The bucket company is a preferred tax beneficiary of the trust because it has a flat corporate tax rate compared to other beneficiaries of the trust who may be sitting on a high marginal tax rate, higher than the corporate tax rate.
Usually, the bucket company is controlled by one of the controllers of the trust to whom income of the trust would otherwise be distributed, but because of that individuals high marginal tax rate, income of the trust is diverted to the bucket company. If “trust distributions” are allocated to the bucket company but unpaid, this frees up capital of the trust for trust purposes (eg working capital needs of the trust).
Such an arrangement needs to overcome what the ATO perceive in many instances is a “reimbursement arrangement” under section 100A of the Income Tax Assessment Act 1936. You should consult your tax adviser before making such trust distributions to a bucket company. See ATO guidance on this issue in PCG 2022/2 on section 100A.
